ANALYSIS-Polycom faces painful, but necessary, shift to software

* Hardware-based videoconferencing seeing reduced demand

* Videoconferencing increasingly moving to cloud-based
software

* Polycom facing budget cuts, competition, restructuring

By Sayantani Ghosh

July 26 Polycom Inc PLCM.O was a big
beneficiary of the 2008 recession, as its videoconferencing
products helped companies cut back executive travel, but the
advantage has proven short-lived as cheaper rivals muscle in on
its business.

The company is working on new cloud-based software products
but analysts warn of a rocky couple of years while it makes a
transition from selling expensive hardware.

After two years when revenue growth topped 20 percent each,
analysts see a 2.2 percent decline in sales this year,
according to Thomson Reuters I/B/E/S.

The shares hit a three-year low of $7.45 on Wednesday,
taking their decline to 78 percent from an 11-year high of
$34.30 last year after the appointment of a new CEO. The stock
edged up in morning trade on Thursday to $8.04.

"It's a tough time to be changing the company in this
economy," said Ira Weinstein, an analyst at independent market
research firm Wainhouse Research.

"I believe they will make the transition, but it will take
time. It's not going to be as fast as (CEO Andy Miller) wants it
to be."

The transition to a software-based model will pressure
earnings over the next 12-18 months, Citi Investment Research
wrote in a note on Wednesday.

High turnover of sales staff at the company's key North
American market has added internal pressure to the big change
job.

BIG CISCO

Polycom faces a leaner, more competitive Cisco, whose
TelePresence has become the dominant choice in the corporate
sector with double Polycom's market share.

"Cisco outnumbers them in every sales situation and has more
brand recognition, so it's an unfair battle," said Weinstein.
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Polycom said in an email to Reuters that it gained market
share over Cisco in the first quarter of 2012, according to
market research firms including IDC, but analysts don't see a
major advance on the dominant player in tough times with so many
internal changes.

"It's going to be very difficult to turn the company around
with those headwinds hitting them all at once," Mizuho
Securities USA analyst Joanna Makris said.

Polycom must embrace a cloud-based model to fend off the
likes of Skype, she said.

"(Skype's) free. And in a bad macro, people like free," said
Makris, who has a "neutral" rating on the Polycom stock.

Competition is also intensifying from smaller, privately
held rivals like Vidyo, which recently received funding from
Juniper Networks Inc (JNPR.N).

FIGHTBACK

Polycom is fighting back. The company, which still gets most
of its revenue from hardware-based systems, is using a software
solution to target smaller businesses, including
videoconferencing apps for mobile devices.

It has made a slew of small purchases to boost its web
presence, including ViVu, a maker of software to embed
videoconferencing in websites and the videoconferencing business
of Hewlett-Packard Co (HPQ.N).

The software model has potential as companies can only
afford a few expensive videoconferencing rooms but a
software-based solution could be used to equip thousands of
employees.

Videoconferencing companies, used to shipping hundreds of
thousands of units for thousands of dollars, will have to get
used to shipping tens of millions of units for much less each,
Gartner analyst Scott Morrison said.

"That's not an easy transition to make for any organization
and Polycom is not unique," he said.

As well, Polycom, as a standalone videoconferencing firm,
will always be dependent for corporate sales on partners
including it in their telecommunications offerings.

That introduces more risk, as Skype-owner Microsoft is a key
user of Polycom products in its Lync corporate video, email and
messaging product.

Polycom hasn't disclosed how much it gets from Microsoft but
has acknowledged in its annual report the risk that its products
could be replaced by Skype.

"If Microsoft integrates Skype into Lync then it is really
game over for Polycom," Makris said.

The Mizuho analyst said in a post-earnings note that
Polycom's outlook was disappointing and reflected a product and
organizational changes that would take several quarters to
execute.

Polycom said Tuesday it continued to restructure its North
American business after appointing four new area vice presidents
earlier this year.

It said David Ruggiero, its president for North America,
would be leaving and it would reorganize its U.S. government
sector units into a new "public sector" business.
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familiar with the matter said this week.